Gilt Yields Drop to Five-Week Low on BOE’s Debt Reduction Plan

By Neal Armstrong -
Nov 9, 2012

U.K. bonds rose, with 10-year yields
falling to a five-week low, after the Bank of England said it
planned to transfer coupon payments it receives from its gilt
holdings to the Treasury to lower the nation’s debt.

The Treasury will use the money to reduce the stock of
outstanding bonds, reducing the amount of gilts held by the
private sector and increasing the amount of money in the
economy, implying “an easing in monetary conditions,” Governor
Mervyn King wrote in a letter to Chancellor of the Exchequer
George Osborne published today on their websites. The pound
dropped to a two-month low against the dollar.

“Potentially this means the government’s net cash
requirement could go down” by 11 billion pounds ($17.5 billion)
in this financial year and 23.8 billion pounds the next, said
Jason Simpson, a rates strategist at Banco Santander SA (SAN) in
London. “The issuance profile could look considerably lower in
the near-term, which is good news for gilts.”

U.K. 10-year yields dropped four basis points, or 0.04
percentage point, to 1.73 percent at 4:39 p.m. London time after
falling to 1.67 percent, the lowest since Oct. 5. The 1.75
percent gilt maturing in September 2022 rose 0.38, or 3.80
pounds per 1,000-pound face amount, to 100.175. The rate has
declined 12 basis points this week, the most since the period
ended Sept. 21.

Coupon Payments

The money to be transferred to the Treasury from the
central bank comes largely from coupon payments on the bonds
already purchased through the 375 billion-pound Asset Purchase
Facility.

“The market has rallied on this, presumably on the
assumption that this means less gilt issuance,” Marc Ostwald, a
rates strategist at Monument Securities Ltd. in London, wrote in
an e-mailed note. “Perhaps the more important aspect is how it
reduces the pressure on Osborne to find more revenue and/or
spending cuts in the short-term.”

Gilts fell yesterday after the Bank of England’s nine-
member Monetary Policy Committee kept its target for bond
purchases unchanged, ending its third round of so-called
quantitative easing.

Gilts have returned 3.2 percent this year through
yesterday, according to indexes compiled by Bloomberg and the
European Federation of Financial Analysts Societies. German
bonds gained 4 percent and U.S. Treasuries earned 2.7 percent.

The pound weakened 0.5 percent to $1.5912, after reaching
$1.5903, the lowest since Sept. 6. Sterling fell 0.2 percent to
79.91 pence per euro after advancing to 79.61 pence yesterday,
the strongest level since Oct. 1.

The pound has gained 1.4 percent this year, according to
Bloomberg Correlation-Weighted Indexes, which track 10
developed-market currencies. The euro dropped 3.4 percent and
the dollar fell 1.3 percent.